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The most valuable part of Discovery?

One would do well to focus on what its ‘insuretech’ platform is doing …

What if Discovery were valued as an intellectual property business? What if one put aside its traditional insurance businesses in its two core markets – South Africa and the United Kingdom – and focused just on the Vitality Group? One or two analysts have previously argued that parts of the Discovery group are increasingly demanding very different valuations.

The insurance part of the business will be valued in relation to its embedded value. This is the sum of the present value of all future profits from its existing book plus net worth. As at end-June 2019, Discovery reported embedded value of R71.2 billion. At that time, it was trading at an approximately 37% premium to embedded value (this premium has historically been as high as 70%).

But what of the Vitality Group?

Simply, Discovery is leveraging its knowledge and experience in the SA and UK markets and allowing partners to use the Vitality intellectual property (IP). This behaviour-change platform allows its partners to drive the shared value model.

Healthier behaviour, supported by incentives, results in healthier members which means lower claims, higher margins, positive selection and lower lapses for insurers. The insurers then pass much of this back to members via incentives. These could be rewards, (effective) premium discounts, cover boosts and unit funds boosts.

Read: Vitality Open made me a (much) better driver

The experience of partner John Hancock, one of the largest life insurers in the US, is astonishing. It has grown its business (measured by annual premiums) by 48% since the partnership started, three times faster than the US market. Sales of Vitality integrated products are growing at 57% annually, 10 times faster than traditional products. And, while 82% of customers engage with Vitality within their first 60 days, 76% stay engaged. Vitality, Discovery says, is changing the nature of John Hancock’s business.

Leveraging Vitality globally started with small steps.

Today, less than six years in, Discovery asserts that Vitality is the world’s largest behavioural platform linked to financial services.

Membership across its partners nearly doubled in the past year (+88%), with compound annual growth rate of 168% since 2015. For now, profits remain modest … as modest as R161 million can be.

On an operating profit basis, Vitality Group is about the same size as Discovery Insure. 

Vitality Group

 

2018

2019

Members

1.56 million

3.6 million

Vitality members on Vitality1

800 000

1.5 million*

Vitality integrated premiums

$390 million

$824 million

Operating profit ($)

$2.6 million

$11.4 million

Operating profit (rands)

R34 million

R161 million

Revenue, including Vitality USA – in dollars

$51.1 million

$65 million

Revenue, including Vitality USA – in rands 

R657 million

R922 million

* Of which 1.4 million are full Vitality members from insurance partners’ integrated products

Until 2018, however, Discovery was hamstrung in how rapidly and cost-effectively it would be able to deploy Vitality for each partner. It would typically require an individual rebuild of Vitality, as well as its integration, each time.

Source: Discovery 2019 annual results presentation

This changed with the Vitality1 ‘insuretech’ platform, which the group last week said it had spent R653 million on. The result is a scaleable and flexible platform, which means far quicker and low-cost implementation at partners.

‘Franchise’ model

This has enabled a so-called franchise model that expands the Discovery customer base beyond the very large national champions it had partnered with to date such as AIA (Hong Kong), Generali (Italy), John Hancock (US) and Sumitomo Life (Japan). These are markets that are generally smaller, with different economics, timing and return-on-capital considerations. 

In the Netherlands, with insurer asr, implementation will take around 12 000 work hours. Contrast this with its implementation in Japan, which took around 80 000 work hours, and you can clearly see the value of the Vitality1 platform. Discovery says it can install ‘Vitality Light’ for under $1 million within three months. The full build needs “at most” six months.

Growth in the Vitality business, it says, will come from three strategies:

  • Exploiting the latent potential in (especially) its large partners, such as AIA and Generali. This means driving the availability of products integrated within Vitality, and the take-up of those across those insurers’ existing bases, including assistance in helping the partners drive engagement among their customers.
  • Adding new insurance partners. With the new franchise model, Discovery can achieve “rapid market expansion and penetration.
  • Developing and rolling out offerings in adjacent areas (this could, in time, include additional verticals Discovery already operates in).

Source: Discovery 2019 annual results presentation

Not only is the growth in this business likely to resemble a hockey stick as the platform scales out, importantly, Vitality Group means mostly dollar-based earnings for Discovery.

It expects 11 builds (or integrations) for franchise partners in the next year, from a pool of 27 customers and potential customers. Three are already live, with a further three approved. Eight partners are at the final due diligence or business case stage, and Discovery is “in discussion” with another 13.

Discovery has an ambitious business mission for Vitality Group:

“To provide a global behavioural change platform that is quick to implement, easy to configure and efficient to operate – serving over 50 million global users by 2023.”

What if, a few years from now, Discovery realises the value of its Vitality platform and separately lists it as an IP business on a global stock exchange (it would obviously retain a majority stake)?

Could Vitality be worth more than the rest of Discovery combined? The whole business is worth ‘just’ $5.25 billion today.

An interesting thought exercise, no?

Hilton Tarrant works at YFM. He can still be contacted at hilton@moneyweb.co.za.

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Why are Discovery’s medical aid and life premiums not materially below its competitors if Vitality delivers “Healthier behaviour, supported by incentives, results in healthier members which means lower claims, higher margins, positive selection and lower lapses for insurers”?. Surely this “game changing” behavioural model should benefit customers via simple benefits like lower costs.

Because they are bankrolling the bank idea,,, silly

To paint the bull case, if the Vitality model works for insurance, it may work for banks. Even if their bank is a complete failure, it may spark the ‘Vitality for banks’ product.

But otherwise, yeah, that bank not looking too good!

As I understand it – by law – health insurance premiums cannot be discounted. It is made even more complicated by the fact that the DHMS and Discovery Health are two legally and functionally separate entities. This is why Discovery built out the Vitality model that runs alongside the medical scheme.

Discovery seems to have done a bit of an AWS with Vitality. Built it for themselves as customer and successfully turned it into a product. Pretty awesome. Would be interested to know how big the market is for Vitality or if they are making that market and if they have any proper competition.

I would guess the biggest competition would come from Insurers doing a build/buy decision internally. Given Discovery has been building for themselves for many years, this decision is seemingly ‘buy’ from a number of partners already. If they can cement this moat and the market is huge, this will be killer for Discovery.

The Liberty vs Discovery case will be interesting as Liberty is piggybacking on the Vitality IP. This could be crucial to the future of the vitality model for Discovery.

In late 2015 and again in mid-2019 in ‘invested’ in Discovery equity.Both times, soon after investing, they released disappointing results: so I’m 0 from 2. In 5 years their share price has appreciated 17% or around 3% pa (simple). While I ack that it’s been a tough 5 years all round, that is disappointing for a growth company. My scepticism remains!

Kindly let us know when you’ll invest again in Discovery. Want to short the stock on that day 😉

(pardon the joke. You’re NOT alone….that’s “investing in a bear market” for all of us…)

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